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How big should your emergency fund be?

Published on Tue Jan 1, 2013

By Christine Bilger, Zing!/Quicken Loans

It’s officially winter, and there’s nothing I appreciate more at this moment in time than the heated seats on my beautiful Ford Fusion leased car. Heated seats are arguably one of the best things ever created, especially when you live in Michigan. Every time I turn them on, I can’t help but feel fortunate when I remember the unreliable car that I was driving at this time last year.

One day, I was driving down a major road when my brakes stopped working. I was going slowly because something about my car didn’t feel quite right. When I pulled up to a stoplight, the brake pedal went all the way to the floor; the car wouldn’t stop but it did slow down slightly. It was only braking with about half of the power it normally had.

With panic, determination, and a lot of tears, I made it to the nearest auto mechanic without crashing. As it turned out, one of the brake lines on my 12-year-old car had rusted through. The repair bill was about $600 – and so I continued to panic.

My savings account didn’t have enough funds to get the car fixed, but since I couldn’t be without a car, I put the majority of the bill on my credit card. I was working in a part-time retail job at that time, so $600 was a pretty hefty bill – and I ended up paying a bunch of interest on that car repair.

Since then, I’ve learned to save money for emergencies. You never know what could happen; you could lose your job, get in an accident, or have a medical emergency or home disaster. Having an emergency fund is one way to help yourself feel and be more financially secure, especially if you’re a homeowner. So how big should that emergency fund be? Here are some things to consider when you’re sizing up your financial cushion.

Fixed expenses. This is one of the most important factors to consider, especially since you could lose your home if you don’t have enough money to cover your rent or mortgage payments. Calculate all of your important fixed expenses, like the mortgage, insurance and utilities. If you have credit card debt or loans, add up the minimum monthly payments you must make on each and factor that total into your fund.

Other expenses. Don’t underestimate the amount of money you spend on “other stuff” each month. Think about expenses like food and gas. Calculate the average amount you spend on a monthly basis, and prepare accordingly. This can be complicated to figure out, so I highly recommend using financial apps like Mint.com or PageOnce. They calculate your spending based on charges to your credit cards and bank accounts, so it will be easier to see where your money is going.

Types of income. Are you a one-income household or two? Do you get income from a pension or Social Security? If you’re reliant on just one income, you’ll need to save a bit more than someone who has extra income or Social Security dollars to fall back on. For instance, a two-income family might only need to save three months of living expenses, whereas a one-income family might need six to nine.

Your job field. Think about the type of job that you have. If you work in a highly specialized field where it’s not easy to find a job, you might need to save a little bit more. If you’re confident about your ability to find a new job quickly, you won’t need such a big fund to get you through tough times.

Your insurance deductibles. I pray every day that I won’t get in a car accident because I can’t afford to be in one. Since I’m under 25, my car insurance rates are through the roof. To keep costs down, I elected a super high deductible. Therefore, my emergency fund has to be big enough to cover the cost of the deductible if I was ever in a car accident. As a general rule, you should always keep enough money in your emergency fund to be able to pay your biggest deductible. If your biggest deductible is $1,000, you’ll need at least that amount to make use of the insurance policy that you’re paying for.

Your liquid funds. According to Daria Giron from Technorati Finance, your emergency fund doesn’t necessarily have to be a savings account. Cash is nice to have on hand, but funds that could be easily liquidated in an emergency will do just as well to get you through in a pinch. Stocks and mutual assets, and in some cases, CD accounts, can act as emergency funds. Bear in mind that lines of credit DO NOT qualify as emergency funds. The point of having an emergency fund is to avoid debt in an emergency. Thus, credit cards defeat the whole purpose of emergency funds since you’ll end up in debt, and likely be paying a whole bunch of interest for months after the situation happens.

Your dependents.Children need a stable home. Job loss or other emergency situations have a tendency to make homes not-so-stable. Therefore, you should add more money to your emergency fund to allow your children the stability they need to feel happy and safe. For instance, do they have private school tuition that needs to be covered? Do they need money to participate in after-school programs? You might have to cut back more now to achieve a bigger emergency fund, but it will be well worth it if anything happens so that you can afford to have consistency in your children’s lives.

Your other financial goals. Having a large emergency cushion is a great feeling. But having a too-large fund might not be the best use of your resources. If you’ve achieved your savings goal and feel confident about the amount of money in your bank account or other assets, go ahead and start putting money toward your other life goals. Put it into your house, your retirement fund, or use it to pay down debts. You’ll be glad you did.

Blanket rules like “save three months’ worth of expenses” don’t necessarily work for everyone. There’s no easy way to figure out how much you’ll need simply because you never know what will happen. By calculating your individual needs honestly, you’ll be able to save yourself a big headache in the future.

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